One of the world's two top crude oil producers (the other being Saudi Arabia), Moscow has lately reserved more of its own production for refining inside Russia.

The transformation has been startling.

Russia Upgrades it Infrastructure

Only a few years ago, 42 of the 49 main refineries in Russia could not produce anything beyond Euro-2 grade gasoline and diesel. That meant Russia had the unenviable prospects of having to import high-octane gasoline in the near future, given the increasing number of newer, more demanding auto models.

The problem was Russian refineries were producing too much mazut (low-level, "black" heating oil) and not enough high-grade gasoline. The volume they were producing had high sulfur content and low octane ratings. This combination had an irritating habit of blowing out decent engines.

Almost three years ago, the Kremlin decided to radically change emphasis.

It demanded considerable investments in the refinery infrastructure to upgrade the processing cut (how much of the crude throughout can be used for oil products). Previously, half or more of the crude moving through a refinery was simply exported because the facility could not do anything with it.

However, the introduction of sophisticated (and expensive) modern technologies is transforming the Russian refinery sector. It is now beginning to export large amounts of oil products to the international market.

There are also major new export pipeline and terminal systems designed to do just that. Russia will continue being a dominant exporter of crude oil. But it is also counting on a rising trade in oil products to improve the balance of payments.

And there is reason to believe this will take place.

Russia's New Pipeline System

Already more than half-completed with a spur line moving crude to China, the system will end at the port of Kozmino on the Russian Pacific coast, where it ends with both a seaport and a huge new refinery.

The Russians plan to become a major player in refined products throughout both the Asia Pacific market and as far away as the U.S. West Coast and even Latin America. ESPO-sourced gasoline and diesel fuel will begin appearing throughout the region.

On the other end of the country, Transneft (the national oil pipeline monopoly) has completed the Baltic Pipeline System-2. BPS-2 will expand capacity for crude oil exports moving west. The BPS system moves oil to the Primorsk area on the Gulf of Finland up the coast from St. Petersburg.

Now, however, the increased system will also be moving oil products abroad.

Moscow has changed the taxing and export duty structures to favor crude processed domestically, rather than merely moved abroad. After all, it is easy to see how more expensive value-added oil products being exported would improve the national budget even more than lower-priced raw material.

This is the scenario moving forward. Primary oil lifting countries like Russia and Saudi Arabia will increasingly move into exporting oil products, as a way of diversifying what still would remain a natural resource-based economy.

This is already having a pronounced impact in other parts of the world. It makes little sense to propose a major new refinery project – an undertaking that would cost billions and take a decade or more to build from scratch – if the product can be secured more cheaply via imports.

Of course, that also has some national market security concerns, since it would replace being dependent upon foreign crude for a similar rising reliance on the importing of outside oil products.

Yet it is underway.

Russia's Shift Will Impact Oil Market

The U.S. market increased imports of gasoline to their highest levels ever earlier this summer and is poised to do so again.

These imports were coming from Europe. There the refining margins (the difference between the cost of production and the wholesale/retail price of the resulting fuels) were so narrow that some plants were going bankrupt. Gasoline and diesel could be gained more cheaply than expanding production at certain refineries back home.

The rise of Russian volume – first in the Asian and other "near abroad" markets and then more widely – will have the advantage of putting some restraint on what will otherwise be an almost inevitable escalation in retail prices.

On the other hand, this new market trade balance will have some still unknown consequences of a broader geopolitical and cross-border economic nature.

Nonetheless, don't be surprised if the rise of refinery production abroad results in some new approaches to crafting international vertical oil companies. Those developments, along with the secondary results in support, equipment, and distribution, are going to open new investment opportunities for us.

Dr. Kent Moors is an internationally recognized expert in oil and natural gas policy, risk assessment, and emerging market economic development. He serves as an advisor to many U.S. governors and foreign governments. Kent details his latest global travels in his free Oil & Energy Investor e-letter. He makes specific investment recommendations in his newsletter, the Energy Advantage. For more active investors, he issues shorter-term trades in his Energy Inner Circle.

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